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President Obama Proposes Cuts in Aid Programs to Preserve Pell Grant

President Obama is proposing to cut some student aid programs to maintain the maximum Pell Grant at $5,550 in 2011-12 as part of the FY2012 federal budget request. This comes after the House Republican leadership proposed cutting the maximum Pell Grant by $845 on Friday.

The Pell Grant program has a $20 billion funding shortfall due to large increases in the number of recipients and the average grant amount. The number of Pell Grant recipients increased 45% from 6.1 million in FY2008 to 8.9 million in FY2010. At the same time, the average Pell Grant increased 39% from $2,970 to $4,115. Combined, the total expenditures for the Pell Grant program doubled in just three years.

The program’s recent growth is partly because of the economy and partly because the maximum grant was increased to compensate for four years of flat funding during the Bush administration. The number of students filing the Free Application for Federal Student Aid (FAFSA) is up by about a third in the last three years. More of the applicants are qualifying for the Pell Grant. The Health Care and Education Reconciliation Act of 2010 was supposed to provide stable funding for the Pell Grant program, but $20 billion in savings from the switch to 100% Direct Lending was diverted to deficit reduction.

If the funding shortfall is not addressed, the maximum Pell Grant will drop from $5,550 to $3,240 in 2011-12, a decrease of $2,310. To avoid this, the President is proposing to cut other student aid funding, such as year-round Pell Grants and the subsidized interest on student loans to graduate and professional students.

Eliminating year-round Pell Grants. The year-round Pell Grant program allows students in accelerated programs to receive two Pell Grants in a single year. It was enacted by the Higher Education Opportunity Act of 2008 and became available in the 2009-10 academic year. The US Department of Education says that the extra grants “cost 10 times more than anticipated and failed to demonstrate a meaningful impact on students’ academic progress.” The year-round Pell Grants were also disproportionately used by for-profit colleges, which are more likely to have students studying year-round without a summer break. Eliminating the year-round Pell Grants saves about $8 billion.

Eliminating the subsidized interest benefit on subsidized Stafford loans for graduate and professional students. During the in-school and grace periods the federal government pays the interest on subsidized Stafford loans. The budget proposal will eliminate this benefit on subsidized Stafford loans to graduate and professional students, but retain it for undergraduate students. (The budget proposal also appears to allow undergraduate subsidized Stafford loans to continue to qualify for the subsidized interest benefit during in-school deferments for graduate and professional school.) In effect the subsidized Stafford loans will become unsubsidized Stafford loans. The US Department of Education says that the subsidized interest benefit for graduate students is “poorly targeted” at financial need. Eliminating the subsidized interest benefit will increase the graduate student debt burden, but the income-based repayment plan and public service loan forgiveness program provide a safety net for students who struggle to repay their debt. This change will save about $2 billion.

The elimination of subsidized interest on loans to graduate and professional students will increase the debt at repayment by about a fifth, adding thousands of dollars to their debt burden. Currently, graduate and professional students can borrow up to $8,500 a year in subsidized Stafford loans. (The average subsidized Stafford loan for graduate and professional students was $7,083 in 2007-08. About a third (35.5%) of graduate and professional students received subsidized Stafford loans, a total of 1,227,400 students. Almost half (47.0% or 519,600 students) of graduating graduate and professional students graduate with subsidized Stafford loans, $16,899 on average.) The interest rate on subsidized Stafford loans for graduate and professional students is 6.8%. The average life of a subsidized Stafford loan dollar in an in-school or grace period is 2.9 years for graduate and professional student borrowers. This means that losing the subsidized interest benefit will add $1,676 to each $8,500 loan balance by the time the student enters repayment, a 19.7% increase. This adds more than $3,333 to the debt burden of graduate and professional students who graduate with a typical amount of subsidized Stafford loans. This assumes that the borrower defers repaying the interest by capitalizing it and that the interest is capitalized once, at repayment.

Adding an incentive for “split borrowers” to move their loans to the Direct Loan program. More than 6 million borrowers currently have loans in both the federally-guaranteed student loan program and the direct loan program. The US Department of Education will offer these borrowers an incentive of up to 2% of their loan balance to move their loans into the Direct Loan program. This program will save about $2 billion.

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